Financial Armageddon is in Full Effect

A comment by Andrew on Barry’s post about the SEC wanting to ban all short selling sent me to my copy of Michael Panzner‘s book Financial Armageddon. Andrew stated that “tonight’s event draws me to the last paragraph of ch.7 in Michael Panzer’s Financial Armageddon“. When I read that paragraph I was reminded of how I felt while reading the book back in March 2007. The scenarios that Panzner laid out were nothing short of chilling. I kept wondering if he really believed all those dire things would actually happen or if they were just a worst case scenario. In flipping through a few chapters tonight it’s scary to see just how much of what Panzner wrote has come to pass. Here are the last two paragraph from chapter 7 (“Depression”) which Andrew was talking about (hopefully Michael won’t mind me posting so much of his text):

Eventually, with a decades-long orgy of credit expansion unraveling fast; the meltdown of stock, bond, commodity, and other markets; a cratering economy; and more of the nation’s largest financial institutions precariously on the edge, the Federal Reserve and Washington as a whole will have reached a critical juncture. There will be widespread pressure, bordering perhaps on hysteria, for somebody, somewhere to take action and stem the rapidly rising tide of disaster.

Only then, after being unwilling to react quickly and forcefully enough early on, the Federal Reserve will abruptly shift gears, no longer fearing the consequences of an aggressive monetary response. In a sense, they will have nothing to lose. With immediate effect, they will give up their self-imposed yoke of restraint and move wholeheartedly into money-creation mode. That will mark the beginning of the second phase of the great unraveling.

Sound familiar? Here’s some more from Chapter 6 (“Systemic Crisis”)

No doubt a systemic meltdown will provoke a similar response. For the financial system and the markets, however, the fallout will likely be worse than any downturn in many decades, owing to a unique combination of modern developments and incendiary circumstances. The explosive growth of derivatives trading and leveraged hedge fund investing, hidden behind a shroud of lightly regulated secrecy, means that few people will have a handle on where dangerous risk is concentrated or overall levels of exposure — not until it’s too late…

-SNIP-

Simply put, people will find it difficult to react in timely, logical or focused fashion to the unfolding calamity…

-SNIP-

Despite increased levels of sophistication and the broad use of modern risk management systems, no one can be sure how new or exotic instruments and markets will behave when conditions take an ominous turn. The sheer scale of the unfolding financial crisisâ€”in terms of the number of participants, firms, regulators, products, countries, and marketsâ€”will make it difficult to penetrate the problems…

-SNIP-

This time, however, a vast and efficient global communications network will ensure that destructive energies are rapidly transmitted to billions of people. So, too, will trading technology that facilitates and encourages traders and investors to act on their impulses. Many will find it too easy to shoot first — or point and click — and ask questions later in a 21st-century rush for the exits.. Not only will the fastest or sharpest operators look to get out. Firms that have come to depend on leverage, including hedge funds, brokers, and even banks, will also face immediate and rapidly growing pressure to scale back positions because of demands for additional cash collateral or reduced access to financing. Meanwhile, those who still have the wherewithal to initiate fresh positions or act independently will look to dive in and take advantage of the stampede.

-SNIP-

A constant global ripple effect will occur as positions are adjusted to take account of risk management strategies or cash-raising demands. The widespread use of flawed models will further aggravate the situation.

-SNIP-

By the time the systemic crisis is full-blown, there will almost certainly have been a domino-like collapse of more than a few large intermediaries and allegedly sophisticated global financial firms, including hedge funds, insurers, and brokers. As the number of failures grows, concerns over counterparty risk will take center stage. Lenders, investors, and risk managers will fret and gossip about which institution is next. Worries about fraud and chicanery will boost anxiety to a fever pitch. Even firms not in dire straits may suddenly find themselves at risk. In times of upheaval, a lack of information and concern about the ability of others to manage their exposure often spurs a self-fulfilling prophecy, where idle chatter alone leads to institutions being squeezed or cut offâ€”just when they need access to financing most.

-SNIP-

Few areas of the financial system will be unaffected when the meltdown rages. In the insurance sector, for example, debt downgrades and defaults will occur at a quickening pace… At least some of the $2 trillion held in money market funds will anxiously flee to safer pastures as the prices of one or more pools fall below par — “breaks the buck” — because of shaky markets and holdings that turn out to be much riskier than expected.

Pretty much all of this has taken place over the last few weeks. Kudos to Michael Panzner for nailing all of this. And somehow I still have hope that much of the other stuff in the book is worst case scenario and won’t come to pass. But I’m losing hope by the day.